This week's Mutual Funds and ETF stories

If you're a confident investor, secure in the knowledge that your portfolio is well-made, you're going about your daily business with little more than a sideways glance at the market in recent weeks. If you are the nervous type, you probably have few fingernails left now after watching the Dow industrials down at one moment on Thursday 10% from its record high just over 14,000.

Most of the investing stories written in volatile market times such as these are directed at the nervous folks, those who you figure need reassurance that they are on the right path or who need to be shown the right path and happen to be in a more receptive mood to taking direction now. (Of course even confident investors will take a sideways glance at stories that affirm their wise perspective.)

Regardless of which camp you fall into, there are reasons to pay attention to the current market volatility and to review your strategies. For one thing, as Investments Editor Jonathan Burton points out in his Life Savings column, to be diversified today does not mean the same thing as it once did. For another, it is not just the U.S. market that is aflutter, but bourses around the world. And, as mutual funds writer Murray Coleman points out, even picking an index fund these days is a much more complicated undertaking than you might realize.

Our lead stories this week all offer perspective on the roller-coaster markets. Read them, plus see why Chuck Jaffe is concerned that mutual fund tax reform keeps getting pushed aside in Congress and check out Marla Brill's warning about mutual funds that put pay-for-performance plans into effect for managers, on this week's Mutual Funds/ETFs page.

They say this market is being whipsawed by emotion -- which is why you can't afford to be.

Steve Kerch, assistant managing editor/personal finance

SPECIAL REPORT: MARKET VOLATILITY

Diversified investments can keep you above water when markets are sinking

Feeling whipsawed by this market? It's times like these when a diversified portfolio is supposed to pay off. But with so many exotic choices out there, it's hard to know what diversification really means. These days, what happens on Wall Street doesn't stay there. Gyrating U.S. stocks affect Europe, Asia and elsewhere, as has been painfully evident over the past week to investors seeking shelter from the markets' torrential storms. So why diversify? Two words: Risk control. See Life Savings.

A pause, forced or otherwise, can refresh in wild markets

Last week, as the stock market was pogo-sticking through its latest stretch of turbulence, a massive technical glitch ripped through the back-office operations of Linsco/Private Ledger Corp., preventing the 10,000 financial advisers affiliated with the firm from doing business as usual. But this is not a story about annoying technical foul-ups. Instead, it's how investors might learn a lesson from the experience that some LPL customers lived through. See Chuck Jaffe.

Why global markets are more volatile, and how investors can handle it

Remember when U.S. stocks hit a record high? Of course you do; it happened just three weeks ago. Now Wall Street is up against the wall. See Mutual Understanding.

Picking an index mutual fund isn't as easy as you might think

Buying an index fund isn't always as straightforward as it might seem. At least 221 distinct varieties of index mutual funds are available today with five-year track records. Throw in some 500-plus exchange-traded funds, most of which are considered passive investing vehicles, and how do you sort through the maze of offerings? See Fundwatch.

ETF launched into teeth of mortgage-market tumult sheds 40% from peak

An exchange-traded fund designed to track real estate investment trusts that specialize in residential and commercial loans has been socked by the problems gripping the mortgage market. See ETF Investing.

Small investors get nailed by arcane trades

A growing number of nonprofessional investors have sought protection from market drops, such as the Dow Jones Industrial Average's 38% fall during the bear market of 2000 to 2002. Wall Street's financial engineers have devised a wealth of products to help Main Street investors diversify or hedge like the pros. As a result, many ordinary investors have shifted toward foreign stocks and currencies, or "market neutral" funds that are supposed to be steadier than ordinary mutual funds. They're dabbling in commodities futures and short selling, an investment bet that pays off if shares decline. Now these small investors are facing the same problems as Wall Street pros: Many of the hedges aren't working as they expected. See full story.

As you age, cut that appetite for risk

Risk, as the current market reminds us, is real -- and that's an especially important lesson to those nearing retirement. See full story.

Stick with high-quality funds

Jeff Tjornehoj, senior research analyst for Lipper Inc., says that the market's resurgence of volatility should not have investors bailing out of high-quality funds, no matter the asset class. Listen to Audio Report.

Is the Dow Theory now on a sell signal?

Did the Dow Theory go on a sell signal at Tuesday's close? The editor of one of three Dow Theory newsletters I track says "yes." See Mark Hulbert.

Ultrashort funds a poor substitute for money markets in volatile times

If you have been putting money into an ultrashort bond fund for safe keeping, the past few weeks haven't been kind. See Mutual Understanding.

Fund managers still positive on equities, survey finds

Fund managers remain relatively positive about the prospects for global equity markets, even after the recent market downturn, according to Merrill Lynch's monthly fund manager survey for August. See Fund Watch.

Come December, you may care deeply about how your mutual fund profits are taxed. By that time, however, recently introduced legislation that would give fund investors a sensible bit of tax relief will be dead. Again. A few folks on Capitol Hill have been fighting a futile battle for years now, trying to change the way funds are taxed, and lowering the burden for buy-and-hold shareholders. See Chuck Jaffe.

Tame the tax bill instead of timing the market

Timing the market is tough, but you can tame the tax bill on your portfolio without too much trouble. A volatile market often tempts investors to trade. If your investments are well-diversified, though, advisers say you are probably better off using the urge to tinker to focus on taxes. See full story.

COMMENTARY

Seven rules for keeping Wall Street's manipulation at bay

Soft landing? Worst is over? Recovery? Buy on dips? Strong economy? Hey, what happened to all the self-serving happy-talk of a month ago? When will we ever learn that the relentless daily onslaught of "news" spun by Wall Street is 99% brainwashing hyperbole and 1% reality, all scripted to manipulate the great American herd of 95 million investors. See Paul B. Farrell.

STOCK PICKING

Fund manager targets small- and microcap stocks poised for growth

Running a portfolio that targets some of the market's smallest stocks allows Nancy Prial to buy growth opportunities, often in overlooked areas, and ride them before the rest of the market piles on. See The Stock Pickers.

Oak fund manager's value plays

Oak Value Fund's manager Larry Coats says the recent market sell-off underscores the importance of investing in companies with strong balance sheets. He also talks about three financial companies trading at a discount. Kelsey Hubbard has the interview. Watch Video Report.

Beware liquidity issues in realty, lending, microcaps

Brent Wilsey of Wilsey Asst Management in Poway, Calif., says that average investors need to focus on solid fundamentals and good values, while potentially pulling back from investment areas like real estate, lending companies and microcap stocks that might be facing liquidity issues. Listen to Audio Report.

Be selective with country funds

Mark Salzinger, editor of the Investors ETF and No-Load Fund Investor newsletters, says that consumers need to have a strong reason to buy tightly focused single-country exchange-traded funds, but that broadly diversified offerings have a place as a core holding. Listen to Audio Report.

Tread carefully on mortgage stocks

Erin Swanson, mortgage lending and mortgage REIT analyst at Morningstar Inc., says that investors need to delve into the balance sheets of beaten-down players in those industries -- as well as regional banks -- before taking a gamble now. Listen to Audio Report.

FEES

As mutual funds adopt manager incentives, investors should be wary

Sales agents are rewarded with commissions. Employers align raises with job performance. So why not extend the concept of incentive-based pay to mutual fund managers? Some fund companies are doing just that with a controversial fee structure that ties investment manager compensation to fund performance. See Mutual Understanding.

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